If you have significant assets and want to avoid probate and estate taxes, an irrevocable trust may be a good idea. As the grantor of the trust, you name the trustee, who will be responsible for managing it. You can place investments, property, cash and valuables into the trust, and distribute this property to your trustees in the way you want. Trusts can help your heirs avoid a lengthy and expensive probate process after you pass away. You can also arrange gifts of money or property per your instructions to the trustee.
Creating a Trust
An irrevocable trust is an arrangement that you create with a trust document. The trust accepts property that you donate to it – but you must retitle this property in the name of the trust. “Irrevocable” means you can’t revoke the trust or change its terms under ordinary circumstances. State law governs trusts and the extraordinary circumstances under which an irrevocable trust can be changed. If all beneficiaries agree to a different distribution of property, for example, then some states allow a change to the trust.
Gifts to Beneficiary
As the grantor of a trust, you set down instructions on the distribution of property to beneficiaries. Any property turned over to a beneficiary during your lifetime is not considered part of your estate at your death, for tax purposes. You control the amount and timing of these gifts through the terms of the trust. The trust can limit annual gifts to a younger beneficiary, for example, or to a beneficiary who may be careless with money.
The Gift Tax
The IRS wants to know about gifts of cash or other assets that you make to others, whether they are friends, business associates or relatives. If you make a gift over a certain amount in a year to any individual, that gift must be reported on a gift-tax form on that year's income tax return (as of 2014, the tax-exempt limit on gifts stood at $14,000). The gift tax and estate tax rules allow a lifetime combined exemption amount, which reached $5.25 million as of 2014. That means the combination of assets in your taxable estate, and the total lifetime excess gift amounts, are exempt up to $5.25 million.
The Present Interest Gift
The IRS requires that any gifts be made out of a trust be under the beneficiary’s full control immediately. This “present interest” rule means that if a gift is made with conditions – and the beneficiary does not have control over it at the time its made – then it doesn’t qualify for the annual exclusion amount. Instead, the entire amount of the gift is subject to the gift tax. To avoid this, the grantor of the trust must set down a period of time during which the beneficiary may withdraw the gift at will and notify the beneficiary.
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